In 2008 at the beginning of the world’s worst global recession since the Great Depression of 1929, Merrill Lynch, a leading bulge bracket investment-banking firm, in an investor note, described Nigeria as one of the most insulated countries from the global financial crisis and meltdown.
With this assertion, the Nigerian stock market like most others, which was already at an all time high, rallied some more. The Nigerian Stock Exchange (NSE) at the time was not only a cesspool of insider trading and financial malfeasance but was grossly overvalued. It witnessed a spike in activity in addition to an asset bubble. The capital market regulator at that time, the Securities and Exchange Commission (SEC) was not only docile and impotent but was culpable of contributory negligence. The crisis finally turned out to be one of the most self induced or incestuous financial crisis in Nigeria’s economic history.
The Nigerian market reached an all time high of $100bn in the first quarter of 2008 compared to total market capitalization of listed companies of $32billion recorded in 2006. Such was the “feel good factor” both globally and domestically that momentum trading and speculative activity dominated the market culture. The Nigerian financial regulatory system, which left room for regulatory arbitrage, put the policy-making framework at a disadvantage in the identification of early warning signals. The taking of remedial steps to contain the crisis after it had manifested was difficult. In the end, the Nigerian economic crisis was mild compared to the global financial turbulence, which was more profound and claimed significant casualties, mostly institutional. The retail investors in the market also lost significant wealth and the banks who took on huge margin loan exposures had to make astronomical write offs and provisions. The average provisioning went from 0.7% to 2.4% of total assets.
The Nigerian banking system slid into a multidimensional crisis of confidence, liquidity and solvency. This peer country financial crisis review seeks to evaluate the performance of the Asset Management Corporation of Nigeria (AMCON) as a macro-economic stabilizing institution, in the context of Nigeria’s economic transition from frontier status to its target of being a fast growing emerging market or one of the MINT (Mexico, Indonesia, Nigeria & Turkey) states. This study will seek to determine whether the
intervention in the financial system was efficient, optimal and consistent with global best practice. By intervention we are talking about the stabilization process of a bad bank set up to perform the following major roles:
a] The detoxification of the bank risk asset space.
b] The recapitalization of the insolvent banks.
c] The holding of assets in a transit portfolio until market absorptive capacity improves.
The Nigerian AMCON model of financial stabilization involves a sinking fund set up by the banks to underwrite the funding cost of the detoxification of the system-wide risk asset portfolio. The total amount of the exercise including carrying cost is estimated at $47.5bn (N7.6trn). The first in the series of bonds have now been redeemed without any systemic disruption.
The peer review will provide answers to the nagging but often misunderstood issue of the role of AMCON in the context of Nigeria’s worst ever financial crisis. The size of the banking crisis relative to the economy -21% of nominal GDP, 35.8% of total banking assets and 71.6% of total banking deposits- were all at risk.
The cause of the crisis both remote and immediate is not as important as its cyclicality, and has been overstated in many previous studies. Banking systemic crisis in Nigeria is historically a post devaluation phenomenon. Typically, the naira remains stable for approximately 5-6years before a drastic adjustment. The consequence of a significant currency depreciation in a country with a high propensity to import cannot be overemphasized. The overvalued exchange rate is the most important factor price in Nigeria and source of elite subsidy. Thus, whenever there is devaluation, it almost leads to a sharp reduction in the exchange rate subsidy whilst magnifying the cross border risk impact on the risk asset portfolio of banks. In the past when banks failed, NDIC paid depositors after many years up to the maximum of its guarantee. The larger depositors lose their fortunes and savings. There is a flight to quality and more banks especially new ones become fragile and pushed closer to the borderline.
The 2009 crisis was unique in that bank managements were sacked and the CBN put in place interim management teams. In most cases, the financial conditions of these banks actually deteriorated further during the quarantine. The AMCON option was post the interim management process. Therefore, AMCON as an institution was set up with a limited life as a tactical response to self and externally induced crisis. However, the anecdotal evidence and the peer review suggest that at this stage of Nigeria’s macro-economic evolution from a frontier market to a MINT state, the economy is likely to become more cyclical than in the past. Therefore, AMCON will need to be a strategic institution that will serve the purpose of stabilizing the banking industry through its peaks and troughs.
The sample size consists of five countries that cut across four continents globally. The countries include the US, Sweden, Ireland, Malaysia and Nigeria. The countries were chosen based on their similarities with respect to the magnitude of the crisis, the spread, and duration of the crisis, but to name a few.
According to Nouriel Roubini in his book Crisis Economics “A Crash Course In the Future of Finance” the onset of the crisis was likewise a mixture of old and new. Housing prices eventually leveled off, and in late 2006 and early 2007, the first nonbank mortgage lenders specializing in subprime loans failed after growing defaults among borrowers. Then in June 2007, two highly leveraged hedge funds managed by Bear Stearns, which had invested in securities backed by subprime mortgages, collapsed; triggering a flight from all securities associated with the subprime market. As awareness mounted that exposure to subprime mortgages was ubiquitous throughout the global financial system, panic spread.
As with so many panics, uncertainty drove decisions. Thanks to securitization, credit risk was transferred from banks to investment banks and then to other financial institutions and investors around the world. However, by the time the crisis hit, this process was incomplete. Banks kept some of the toxic assets on their own balance sheets or stowed them in ”structured investment vehicles” and “conduits” that did not show up on official balance sheets until the crisis forced banks to acknowledge their losses.
That process gathered speed in 2008. After more than three hundred nonbank mortgage lenders collapsed, shadow banking beasts born of regulatory evasion-structured investment vehicles, conduits, and other off balance-sheet entities, began to collapse as well. These held highly toxic mortgage-backed securities and other, even more esoteric forms of structured finance. The next step was the swift demise of Wall Street’s major investment banks, which perished as their lifeblood – very short-term loans known as “overnight repo financing” – dried up. Bear Stearns was first, followed later that year by Lehman Brothers. Merrill Lynch would have collapsed too, had it not been sold to the Bank of America.
Goldman Sachs and Morgan Stanley dodged the bullet by turning themselves into bank holding companies, gaining access to lender-of-last-resort support from the Federal Reserve in exchange for submitting to greater regulatory oversight.
Dick Cheney in his interview with the Associated Press in January 2009 in response to a question as to why the Bush administration failed to foresee the financial crisis said in his typical cynicism “nobody anywhere was smart enough to figure it out, l do not think anybody saw it coming”.
He went further to suggest that the financial crisis coupled with the September 11 attacks, were next to impossible to foresee. The magnitude of this crisis was so severe, that every nation was affected. In some cases, the impact was more severe than others.
The fact that most of the economies in the OECD were major casualties of this meltdown, has began to question the efficacy of the much bandied around economic reform policies. These economies were hitherto considered models of economic openness and forward looking policies.
The global economic crisis and financial turmoil that erupted in 2008 has now abated, followed by a mild recovery in growth but an unexpected rally in financial asset values. Stock markets are mostly higher than the pre-crisis levels. The coordinated crisis resolution strategies adopted by the international financial community has been adjudged as mainly successful. The unconventional method of quantitative easing to increase money supply whilst keeping interest rates at very low levels seems to have worked. The fears of this strategy stoking consumer price inflation to astronomical levels have been mostly misplaced. Global economic output growth is estimated at 3.1% for 2014 after dropping to –2% in 2009. The Sovereign debt crisis, which threatened to push the EU into disintegration, has eased and Europe is likely to remain intact and attract new members.
The global economic crisis which very quickly metamorphosed into a contagious financial crisis with devastating consequences across all the continents is now over. It left most stock markets in shreds and eroded the value of investors’ portfolios. The crisis also took its toll on political holders. There was regime change in most OECD, emerging and frontier markets from the U.S. where the republicans lost power to the democrats, the U.K. where the labor party lost to a coalition of the conservatives and the liberal democrats and France.
To be continued on tomorrow…
Financial Derivatives Company Ltd
